The real cost of US tariffs on India's economy

PRESIDENT DONALD TRUMP’S Truth Social timeline has more plot twists than Kyunki Saas Bhi Kabhi Bahu Thi. And, like the seemingly never-ending soap opera (a new season is premiering this month, 25 years after the initial run), Trump’s tariff tantrums have all the ingredients necessary for an intense drama, though the twists and turns make it more suitable for the genre of farce.

From ‘Liberation Day’ in April to a 90-day reprieve till July, with a new deadline now of August 1—not to forget the constant rejigging of tariff rates on a daily basis—Trump has turned a quickie into a daily soap. Yet, a soap that has real-world consequences for all, including every Indian.

That means, India’s happily-ever-after will have to wait, despite the latest so-near-yet-so-far saga. But seeing the speed at which Trump’s new bromances have lifted-off and burnt bright before crashing spectacularly back to terra firma, Prime Minister Narendra Modi, Union Commerce and Industry Minister Piyush Goyal and team are perhaps better off with their current lot of long drawn-out negotiations and a deal in tranches—with the promise of a full-and-final down the aisle.

That stems from the agreement inked back in February, when Modi visited Washington following Trump’s second coming, which said that both India and the US will double trade to $500 billion by the end of this decade.

That in-principle agreement signalled that India was in it for the long run, and any bumps along the way—be it Trump’s muddying up of the global trade waters with his ‘Liberation Day’ (and the flip-flops    thence) tariff play or the gains and setbacks over protracted negotiations—were just bends on the road and never to be full-stops. But the bigger question is, with the polity and businesses fixated on ‘deal ya no deal’, are we ignoring how prepared, or not, India is for this brave new world?

“So much will open up, I think Indian industries are in a good shape,” said a confident Rajiv Memani, India chairman of EY (formerly Ernst & Young) and the newly anointed president of India’s biggest business body, the Confederation of Indian Industry. “I’m sure everyone will double down and see what they can do… (at least) a part of Indian industry will exploit the opportunity rapidly.”

But while a large and developed free market like that of the US opening up could be lucrative for many Indian businesses and sectors, the reality is a bit more complex. Deals are two-way processes, and while India has a trade surplus with the US, meaning India exports more to the US than the reverse, it is a ratio Trump has been avowedly focused on changing.

Indian markets opening up to goods in various sectors, beyond the much in discussion agriculture products, could reconfigure that mix faster than you can say ‘Howdy Trump’.

“The more challenging part of the work will be to (figure out) the economic impact,” added Memani, “There could be specific sectors (that will face) an economic impact. When you do a trade deal, there are pros and cons, so many nuances which will play out as time goes.”

While most of the focus has been on agriculture and dairy, India’s issue has also been on many other significant raw materials and the churn Trump’s tariffs can cause to them. For example, Trump has already announced tariffs on steel and aluminium—25 per cent in April, which he doubled to 50 per cent last month. Initial reports indicate this has already started bleeding foundries that supply parts and supporting machineries to big steel and aluminium makers who have started cancelling their procurement.

India exported nearly $5 billion worth of iron, steel and aluminium to the US last year. Not only are these in danger, the local market is set to be flooded by cheaper Chinese steel—China has massive production capacity and if the US market closes its doors on it, there is every chance that they will come and flood India’s domestic market, where there is a huge demand. In fact, this dumping of products from China is a real worry for Indian domestic manufacturers, with the Centre even contemplating ways to counter it without running afoul of World Trade Organization stipulations.

India’s past experience with free trade agreements (FTAs) itself is the apt reality check. Before deciding not to join the China-dominated Regional Comprehensive Economic Partnership (RCEP) trade block in November 2019 and starting to proactively look at various bilateral deals to offset the loss—resulting in recent FTAs with the likes of Australia, the UAE and the UK—India had turned away from the option because of its not-so-happy experiences in this department.

For example, India’s most ambitious FTA previously, the one with the South East Asian nations’ trade bloc ASEAN, left a bad aftertaste. While trade numbers did go up, so did the trade deficit. For example, while ASEAN countries were exporting more than $6 billion worth of goods to India before the FTA in 2009, it increased to $46 billion by 2022. Since then, it has shown some tempering, mainly also because India tightened restrictions, especially on goods from China which were flowing into India through these nations.

Similar deals with Japan and South Korea also did not give Indian trade any leg up. In fact, some trade analysts say these deals only contributed to domestic industries where India had a comparative advantage, like garments and pharmaceuticals, getting weakened because of a surge in products coming in via the trade deals and flooding the Indian market.

Of course, that made India super-cautious in its future outings at the negotiating table, including the protracted wrangling in Washington in recent months on anything from genetically-modified crops to opening access to markets for the likes of wheat, maize and soybean. For India, maize is a particularly sensitive topic going into elections in Bihar, considering that it is largely cultivated in its Seemanchal region. Likewise, wheat, cultivated in massive mechanised farms of America’s great plains and provided subsidy by the administration there, could easily overrun the staple from India’s gangetic plains, starting with the price advantage alone.

But, as some economists have pointed out, this could well be the nudge India requires to reform its farming sector.

“Free tariff access to a developed economy is not at all a bad thing for India. And if it forces us to reform our agriculture sector, it will be a blessing,” said Rahul Ahluwalia, founder-director of the Delhi-based policy think-tank Foundation for Economic Development. “Our small land holdings are much better off competing on high value-added goods rather than competing on things like wheat and paddy which (the US can do better with its) mechanised acres of farms. The reason we don’t is because of our policies. We have minimum support price, procurement, free electricity, stuff like that.

“If we can reform all of this in such a way that farmers are protected and so there is no unrest, this will be a fantastic thing for us. Fantastic from an environmental perspective (grain cultivation requires massive amounts of water), a welfare perspective (huge money is spent by the government on sops and support), an economic perspective, and even from a national security perspective. We should try to look at the upside, not the downside.”

A similar situation persists in industry, too. Despite liberalisation well into its fourth decade, many industrial heavyweights in India enjoy a loosely protected market thanks to the complex web of import duties and other non-tariff barriers that India has put up over the years to discourage free market competition from international companies, with the argument that they would overrun domestic business sectors which generate employment.

However, it is evident that that will have to go. The only question is to what extent India will accede to removing barriers in the follow-up negotiations. But, there is another worry down the road—it is not just the terms India can further extract that matters; what other countries bag will have a direct domino effect on India’s own trade prospects. “We would want to see how relatively competitive we are with respect to other countries. That’s also equally important,” pointed out Memani.

When the initial set of tariffs were announced in April, India, despite being slapped with 26 per cent, was thought of to have an advantage—when it comes to manufactured goods, India’s competitors in the present mix are China and Vietnam, and both had higher tariffs. Despite the duties, India could take over the space vacated by the other two, went the thinking.

But since then, it has been a roller-coaster ride. China and the US soon worked out a barter over processor chips and rare earths that both desperately needed from each other, letting Beijing off the hook of crazy duties of up to 145 per cent. Meanwhile, Vietnam recently managed to strike a deal at 20 per cent tariffs.

Will it be advantage India? It will depend on a mix of factors, not the least of it being the tariffs other nations work out with Washington—China’s 90-day truce announced in May, as well as the warning letter to Korea and Japan, expire in August, which means there is lots left to watch in this space.

India is spreading out its eggs in multiple baskets—it is in advanced negotiation with a market almost as big as the US, the European Union, which could be a shoo-in since most of the vexing points relate more to non-trade barriers like carbon tax. They are also spread out more evenly, taking into account the recent geostrategic turn to trade, with the days of ‘trade in a global village’ long gone and nations turning insular.

This explains some extraordinary moves by India in recent days, turning the charm on countries it had not taken a second glance at for several decades. Modi’s visit to nations like Namibia and Argentina last fortnight could only be seen in the trade context. Namibia is the world’s third largest producer of uranium and one of the largest producers of lithium, zinc and rare earths. Argentina has huge reserves of shale and conventional oil, as well as critical minerals like copper, lithium and rare earths. Another little-noticed move by India is the initiation of FTA talks with Peru later this month. Peru is rich in rare earth minerals.

Going by Trump’s multiple attempts at risky approach, go-arounds and further turn backs (to use aviation terminology), there are further dangers, less talked about at present, which could give a body blow to the India story. Two crucial areas are services and pharmaceuticals.

“Just before liberalisation, exports were 6.5 per cent of our GDP, which went up to almost 25 per cent two decades after liberalisation,” said Ahluwalia, “Services export went up nearly 12 per cent this year, which is what is actually leading to what we think of as broader growth and consumption growth in the Indian economy. This export growth is what fuelled the rest of India’s economic growth, even if economists try to dress it up as other things (like domestic demand).

“It is no irony that India’s fastest growing and wealthiest urban centres are places like Bengaluru, Gurugram and Hyderabad, all home to the massive expansion that has happened in IT services and BPOs.”

Any Trumpian move to target the services sector or pharma, even if ostensibly against US interests, could be debilitating for India. Last week Trump spoke of imposing a 200 per cent tariff on pharma after a 12- to 18-month grace period. This should only be seen as a hard negotiating tactic to put pressure on countries like India. Trump imposing any such tariff could multiply the cost of medicines which are already high in the US, and a public backlash is not something he would want. Yet, any kind of tariff on pharma could impact Indian export of medicines to the US, or even worse, throw up a competitor which could take advantage of any possible tariff differential.

Ahluwalia highlighted the happy ending possible amid all the tragedy and farce. “Going forward, India has to make use of the present opportunity in the best manner possible,” he said. “If not, it could hurt us where we are already doing fine.”